''This is the sort of activity you see in recessions,'' says a BIS Shrapnel veteran, Robert Mellor, about home owners' refusal to fork out on additions or alterations.

People's willingness to upgrade to a new bathroom or kitchen mirrors several factors: how confident they feel, house price movements and the turnover of homes sold.

Established home sales dropped sharply between 2010 and 2011, according to Australian Property Monitors. Prices did the same, by 3.5 per cent.

State finances are looking wobbly as a result. Reduced stamp duty income will put significant holes in state budgets if home sales continue at present levels.

Typically, renovators start tinkering with their new home one or two years after moving in.

But buyers who took the plunge at the height of the property boom in 2009 have downed tools.

While Bunnings with its broader range of household products has suffered less, other building material providers are struggling, Mellor says.

''Anything exposed to new housing or addition and alteration activity will have softened in the last six months,'' he says.

Adding to the stress on the household budget is the relentless rise in the cost of living. As the graph shows, the cost of non-discretionary expenditure - on utilities and insurance, for example - has risen by between 5 and 9 per cent annually over the past five years. Meanwhile, expenditure on discretionary items such as clothing has actually fallen over the same period.

In a reversal from the cash splashed around in early 2010, the amount spent last year on additions and alterations for existing homes fell 6.5 per cent in NSW and 2.5 per cent in Victoria. This year BIS Shrapnel forecasts it will fall again, by 9 per cent in Victoria and just under 1 per cent in NSW.

''I've followed the industry for just over 30 years and I've never seen anything like this outside the 1982-83 recession or the 1990-91 recession,'' Mellor says. ''Building materials companies are finding the sector very tough.''

Those conditions are mirrored in retailing.

''The centre I'm in has got no customers to speak of,'' said Harvey Norman founder Gerry Harvey in between bites of his sandwich while touring a Melbourne shopping centre this week.

''They're all having a dreadful time. That's pretty much symptomatic of what's happening in most centres in Australia.''

Sales were at levels usually associated with 10 to 11 per cent unemployment levels.

''You have this very unusual circumstance of having 5 per cent plus unemployment and very weak retail sales.''

The pain is being felt across the board, as large retailers struggling with sluggish consumer sentiment are accused by analysts of being too slow to react to the threat of online shopping eating into their revenue and margins.

A week ago, retailer David Jones announced a 20 per cent fall in profits just days after its rival Myer reported a similar result.

DJs's wretched earnings led to an 11 per cent slide in its share price on the day and prompted its chief executive, Paul Zahra, to comment: ''It's certainly been the toughest retail conditions I've seen in my career.''

But the malaise goes far beyond people's focus on paying down debt, a perplexed Harvey says.

''If you haven't got the state of mind, you're not going to buy.

''I'm walking into shops and we're selling stuff cheaper than we were 30 years ago: fridges, TVs, washers, small appliances, irons, toasters, even lounge suites.''

But ''it's as slow as buggery, it's hard to get floor traffic'', he says.

Part of the answer lies in wages being outstripped by rising living costs. ''There are a number of household types who have very little free cash,'' says the executive director of Fujitsu Australia, Martin North. ''With the rising cost of living, petrol and other things, they feel under quite some difficulty.''

Young growing families (mostly first-home buyers) were spending about 43 per cent of their disposable income on monthly mortgage payments, leaving little for non-essential purchases.

Urban battlers and rural families were also struggling, North says.

Apart from cost of living pressures, there is another big reason why Australians are so feverishly paying off their debts. The ratio of total debt to disposable income has increased threefold since 1991, to a whopping 150 per cent, the Reserve Bank's latest Financial Stability Review shows (see story below).

Nonetheless, the Reserve says borrowers are well placed to meet their obligations, with only a small share ''very highly geared''.

But some fear a hefty consequence from that debt binge.

Years of over-hyped lending activity will have a significant long-term dampening effect on consumer confidence, house prices and economic activity, North says.

That drag is already showing up in the worryingly uneven performance of the Australian economy, which has continued to produce respectable headline growth figures largely due to boom conditions in the mining sector.

''These are fundamental long-term issues,'' North says. ''This isn't going to be a dip in the cycle. We are seeing some behaviours and some different factors which is suggesting the long-term outlook for the next five years is quite flat.''

Investment bank Goldman Sachs says the eastern seaboard is clearly in recession and consumers are ''so cautious that retailers, builders and a myriad of service providers are in real pain''.

''The job-cutting is only getting started,'' it says.

Builders and contractors are pricing significant discounts into their projects to keep their work flowing, says Michael Manikas, the chief executive of the Australian Institute of Quantity Surveyors. ''Generally contractors aim for [a margin] over 5 per cent. Now you'll find a lot of them pricing at 1 or 2 per cent and some even at 0 per cent,'' Manikas says.

''They don't like sacking people. So they've got people on the books they'd rather have working on a job and make a smaller margin, hoping to pick it up later.''

Some were starting to reduce their workforce.

''It's not massive, we're not talking about it being like the banks shedding thousands of staff,'' he says.

The chief economist at Master Builders Australia, Peter Jones, says business conditions are deteriorating, profitability is under pressure and the pipeline of building work is evaporating. ''A broad-based private sector recovery has failed to gain momentum,'' he says. ''Confidence is lacking. There is now a strong case for the Reserve Bank to cut rates to underpin the slow lane of the economy.''

But government policymakers will need to be mindful that Australia's housing market is undergoing a once-in-a-generation shift as debt-wary buyers stay out of the market.

Banks will need to adjust to a ''new normal'' of weak demand for home loans, which may drop to half the level of borrowing seen before the global financial crisis.

''I do not expect to see a return to the buoyant times of the mid-2000s in the years ahead,'' North says after the release of JPMorgan and Fujitsu's Australian mortgage industry report this week.

''In this lower-growth environment, there is the risk that policymakers start to think about new incentives to kick-start the housing sector, but this would be a potentially costly mistake as it fails to appreciate the true impact of the new normal.

''Previous attempts to stimulate the market did little long-term good, and merely lifted house prices to their current high levels.''

Directly or indirectly the residential building industry employs about 400,000 people across the country, says an economist from the Housing Industry Association, Andrew Harvey.

About 105,000 of those jobs are in Victoria where new housing starts have fallen by a quarter since 2010.

At its peak, the state accounted for 35 per cent of the nation's new home building. While its building activity has shrunk from record highs to more normal levels, Australia's other largest states are not picking up the slack despite more migrants arriving every day and an estimated housing shortfall of 186,000 across the nation.

In NSW, home building levels have been ''woeful for eight straight years'', Andrew Harvey says.

Last year NSW starts fell by 6.5 per cent to 30,550, but the Housing Industry Association forecasts a modest improvement this year - up by about 1 per cent.

''This small gain is nowhere near enough to offset the Victorian situation,'' Harvey says.

New home sales figures this week show housing rose 3 per cent in February, clawing back some traction from a big drop of 7.3 per cent in January.

That rise was held back by a 7.4 per cent fall in home sales in Victoria, whereas NSW posted a 5.3 per cent rise for the month.

New housing activity affects the rest of the economy. Roughly, for every $1 spent on home building, there is a further $3 of activity generated elsewhere.

''In the longer term this is not so important because the investment in housing may be replaced by investment in something else - but in the short-term it matters a great deal,'' Harvey says.

But some debt-shy home buyers are coming out of their shells.

Sydney will start its autumn auction season this weekend with a bang. About 702 homes are going under the hammer, a rise of 19 per cent on the same weekend last year.

That follows some positive upward movement in auction clearance rates and strong rental income growth, a factor which makes the city more attractive for investors.

Melbourne's streets will host 1040 auctions this weekend, the largest number of homes to go under hammer so far this year.

As well, auction clearance rates have stabilised at about 60 per cent, signalling more energy in the market after a lacklustre performance last year.

Housing markets generally follow a two cities up and two cities down cycle in Australia, says the residential manager of developer Australand, Rod Fehring.

Perth was now just starting to benefit from the increase in mining investment, and Sydney, after six years in the doldrums, was Australand's strongest market.

But Sydney's infrastructure, planning and other bottlenecks are causing a chronic under-supply of detached dwellings, townhouse and apartments in the $400,000 to $700,000 price range, where there is most demand.

Most projects are concentrated in middle-ring suburbs following the shift of lower-wage jobs out of expensive CBD office towers to the suburban office market.

''That's why six out of every 10 sales are all medium density apartments, because that's what people can afford to buy and still be remotely near mum and dad or where their job is,'' Fehring says.

Friends or relatives are banding together and forming unusual household configurations to overcome affordability issues.

''It's hard to pick a household type now because they are so fragmented,'' Fehring says.

This week's Bureau of Statistics figures show population growth remains steady, underpinned by migration.

''For any business, this is clearly good news. If there are more people coming to live and work in Australia, it means more spending, investment, employment and thus momentum for the economy,'' says a CommSec economist, Craig James.

The broader market fundamentals justify an upturn, says BIS Shrapnel's Mellor, but if confidence stays fragile the speed of any bounce in residential building will be modest.

Mellor blames a distorted view of the importance of the US and Europe to Australia's economy, promoted by extensive media coverage, for consumers' lack of confidence.

''The job situation's done better than you would expect outside of mining,'' he says. ''A lot of people are holding on to labour. The question is how long that will keep going.''

Confidence will remain a critical factor over the next year, says Joseph Healy, a business banking executive at National Australia Bank. ''The way people look at the property market and their expectations of prices rising impacts on how they feel about their own wealth and their investment plans. It is absolutely important to our national psyche, to our willingness to make investments, to how we think about spending.''